When it comes to ESG consulting and evaluating the systematic risks that businesses face for regular factors that are easy to quantify, the market has a host of techniques and practices in place. These are referred to as the “known unknown,” and include factors like changes in interest rates of the business cycle.
However, the COVID-19 has proven that the market isn’t adept in coping with factors and risks that are difficult to quantify or predict. These “unknown unknowns” are detrimental to the growth of a company, and are usually defined as environmental, social and governance risks. Most firms usually fall in the middle of this spectrum.
There are various examples that have shown how the failure to manage ESG risks can severely damage the value of a company’s stocks.
In this blog, we are going to discuss how companies can create long-term value by managing and preparing for ESG risks. But first, let’s start with the basics.
What Is ESG & Why It Matters
Almost every business faces a host of environmental, social and governance concerns. These concerns are mostly linked and intertwined together, thereby forming ESG. Before moving forward, let’s first briefly understand each element and what it represents.
‘E’nvironment Criteria – The environmental criteria focuses on the energy that your company utilises and the waste it discharges. It also includes the resources it needs and the overall impact it has on living beings as a result of production. Finally, the criteria also consider the impact your company has on carbon emission and climate change.
‘S’ocial Criteria – The social criteria takes into account the relationships your company forms and maintains with the people and communities that come under the scope of your business. This also includes labour relations and diversification and inclusion.
‘G’overnance – The governance criteria addresses various internal systems and processes that the company adopts to govern itself in order to make sensible decisions that comply with the law, and meets the requirements of stakeholders.
While complying with each criterion is crucial, companies need to consider ESG as a whole, as each element within ESG is intertwined. For instance, if you consider the social criteria, it overlaps with the governance criteria when it comes to setting labour laws in place within the company.
To succeed in today’s generation, companies need to start adopting measures that factor in ESG.
Moreover, this number has risen tenfold since 2004. This unprecedented rise can be attributed to the increased attention of consumers on social and environmental factors. In addition to this, investors too have started considering a strong ESG strategy as an assurance of a company’s long-term success. The magnitude of the year-on-year growth proves that ESG is not just a fad or a feel-good exercise, instead, it is here to stay.
In addition to this, there is an overwhelming number of studies and research that prove that companies that factor in the ESG concerns in their planning and strategies witness a reduction in downside risk, lower loan and credit default spreads and higher credit ratings.
Different ESG Rating Providers
A host of different third-party providers have started evaluating almost every company, international, domestic, public and even private, based on their ESG performance. These reports have gained tremendous importance over the past few years as investors, asset managers, and other stakeholders have started considering these reports to assess companies.
That being said, the ratings and reports largely differ based on the provider. To ensure you get a strong ESG rating, you need to have a keen understanding of what each provider analyses. We’ve listed the rating process and methodology for three of the most prominent providers, based on a study conducted by the Harvard Law School Forum on Corporate Governance.
Bloomberg ESG Data Service
Companies are rated out of 100, based on their ESG practices. Bloomberg is one of the few providers that also takes into consideration third-party rating agencies like Sustainalytics and CDP Climate Disclosure Score to determine the final score of a company. Moreover, the overview of the company is considered not only from an ESG perspective, but also relative to peers. Companies are evaluated on an annual basis, and are penalized for any missing data.
Corporate Knights Global 100
The Corporate Knights rate companies (on a score of out of 100); the companies are then ranked against other companies in the same group based on their ranking. The provider releases reports annually and curates the ratings based on data that is disclosed publicly. For the ratings, the provider considers 14 key performance indicators, right from supplier performance and financial management to employee management. Companies are only rated based on factors that are relevant to their industry.
DowJones Sustainability Index (DJSI)
This provider uses the DJSI world index to rank companies out of 100. The scores for this report are heavily influenced by RobecoSAM’s annual Corporate Sustainability Assessment (CSA). In this assessment, 2,500 companies are considered to be part of the DJSI World index. To be part of this, companies are sent questionnaires that are relevant to their industry, which includes questions related to various economic, social and environmental factors.
How To Improve Your ESG Score For Long-Term Value
There’s no doubt that it is crucial for a company to have a good ESG rating, not only to get investors and customers, but also to ensure long-term sustainability. That being said, creating a successful ESG strategy largely depends on creating a culture that focuses on doing social good, maintain transparent governance and achieve ethical behaviour.
Here are few tips you can follow to improve your ESG score and reap the benefits of long-term value.
Redefine your CSR
For a while now, corporate philanthropy has been completely misunderstood. Simply ‘writing a cheque for a fundraiser,’ is not enough to truly fulfill a company’s Corporate Social Responsibility (CSR). You need to go above and beyond in addition to supporting charities. These activities can include setting up infrastructure to support activism, mentorship, sustainability initiatives, among others.
Moreover, you also should consider integrating CSR philosophies in teams like HR and marketing to ensure the concept is deeply engraved in every aspect of your company. In this way, CSR practices can help a company align their company-wide goals with ESG.
Don’t Impose, Instead Encourage Purpose
By identifying a specific purpose for their business to embrace, many businesses aim to deliver on ESG. This definition is not inherently false, but it is inadequate. It’s impossible to dictate culture from the top down; instead, it often needs to be personal. Recognizing the influence of people as agents of transformation is one of the strongest ways to infuse your organisation with an authentic and tangible sense of intent. Data indicates that consumers tend to solve things that matter to them, whether it’s in the items they buy, the forms they give back or the decisions they make in their lifestyle. The most creative companies make it simple, comfortable, interconnected and equitable for staff, clients and partners to find a purpose in relation to the challenges they care about most, and not necessarily what might be considered strategic for the brand.
Hence, ensuring that you democratise the purse is imperative to increase engagement and promote the fundamental concepts of ESG in your company as well as gain positive business outcomes, which include, but aren’t limited to brand reputation and employee satisfaction.
The Measurement Mindset Isn’t Always The Answer
Contrary to popular belief, not every outcome can be measured or categorised with a numerical value. Companies should definitely quantify what they can (especially strategic business and social impacts), but the importance of less tangible gains should not be overlooked. There are no great steps to provide staff or consumers with a sense of self-efficacy, but helping people achieve a sense of purpose will certainly produce intrinsic positive effects that have a halo impact on the atmosphere and reputation of an organisation. Obviously, there are proxies and correlational statistics that can come in use, but we need to be more considerate about valuing intangible properties, such as how someone feels about a culture or a company.
By encouraging this mindset, you can ensure that not only your employees, but the policies you create, their execution and every other aspect of your company subscribes to the core values of ESG.
Authentic, purpose-driven enterprises aren’t just higher ratings. Rather than beginning from a mindset where the target is to improve the ESG ranking, start from a mindset where the target is a community formed by intent, relevance and effect. It would be accompanied by a good ESG performance (and greater profitability over the long term).
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